Chinese yuan and US dollar
File photo: Signs of Chinese yuan and US dollar are seen at a currency exchange store in Shanghai, China. Image Credit: REUTERS

China should keep its exchange rate flexible if additional intensification of the trade war with the US threatens further harm to the economy, according to an International Monetary Fund report completed before the recent escalation of tensions.

If the US raised tariffs to 25 per cent on remaining Chinese imports, that could trim growth by 0.8 percentage point over the following year by reducing demand and tightening financial conditions and lead to “significant negative spillovers globally,” the IMF said in its annual report on China’s economy released on Friday in Washington.

“Against this shock, further easing, primarily through fiscal measures, would be warranted,” the IMF said in staff comments dated July 12. “The exchange rate should remain flexible and market-determined to help absorb the tariff shock. Greater depreciation pressures and potential capital outflows will call for clear public communication and possible FX intervention to counter disorderly market conditions.”

President Donald Trump last week threatened to impose a 10 per cent tariff on a further $300 billion (Dh1.1 trillion) in Chinese imports starting September 1 and said levies could eventually go higher.

The report comes as the world’s second-largest economy slows amid a widening trade war and the Trump administration formally labelling China a currency manipulator after the yuan broke the 7 per dollar level on Monday. July data showed the industrial sector is slipping back into deflation, and the outlook is poised to dim further if additional tariffs take effect.

The IMF had said in a June release on the completion of its annual Article IV mission to China that it had trimmed forecasts for 2019 economic growth to 6.2 per cent, as the trade war adds to risks. That matches the growth estimate from economists surveyed by Bloomberg, who project growth will decelerate to 6 per cent next year and 5.8 per cent in 2021.

The fund’s report on Friday projected gross domestic product growth slowing to 5.5 per cent in 2024 and said it could decelerate to 4 per cent by 2030. “Growth is expected to remain strong in the medium term, but slow gradually as the economy shifts further from the industrial sector to lower-productivity service sectors,” it said.

IMF staff also said in updated projections that public debt as a share of GDP will rise from 72.7 per cent last year to 80.2 per cent this year and 101.5 per cent in 2024. Those augmented fiscal data expand the measure of government borrowing to include local government financing vehicles and other off-budget activity.

The IMF noted that Chinese officials “continued to disagree” with the IMF’s use of augmented government debt figures and argued “local governments did not bear any responsibility for the financial obligations of local government financing vehicles” and other certain funds.

The IMF said directors on its executive board, which concluded its annual review of China on July 31, “concurred that greater exchange rate flexibility and deeper and better functioning FX markets would help the financial system prepare for greater capital flow volatility.”

Some directors called for disclosure of foreign-exchange interventions.